Microsoft (NASDAQ:MSFT) stock didn’t really react to the firm’s earnings report on Wednesday (29 April). But I think the real significance is elsewhere.
Investors naturally focused on Azure – the cloud computing division. But I’m also interested in another part of the business.
Headline numbers
Microsoft’s overall sales grew 15% in the three months leading up to 31 March. And earnings per share increased 18%.
As expected, Azure was very impressive. It achieved 39.8% growth, which is faster than Amazon but slower than Alphabet.
That, however, is a function of size. Azure’s $7.8bn revenue increase is roughly similar to AWS or Google Cloud.
The outlook is still strong in terms of demand. But that means the firm has increased its spending plans by $25bn to keep up.
This is due to memory and storage costs going up. And paying higher prices for the same products isn’t a good thing for Microsoft.
Investors who were worried about overspending should pay close attention. But I’m interested in another part of the company.
Enterprise software
Cloud computing is where the growth is right now. But the company’s software businesses are also interesting to me at the moment.
Microsoft’s enterprise and productivity software are horizontal software products. They’re not specialised to any one industry.
I think this makes them more vulnerable to artificial intelligence (AI) disruption. Customers might try to create more bespoke products.
Sales in this part of the company, however, were pretty strong. Dynamics 365 grew 17% and Microsoft 365 Commercial grew 15%.
Microsoft isn’t the only horizontal software company to report strong growth. But I think the latest results are encouraging.
The situation with AI competitors is one to keep watching closely. For the time being, though, things seem to be going well.
OpenAI
A couple of days before its earnings update, Microsoft reported a change in its agreement with OpenAI. And the market initially viewed it negatively.
The major changes are as follows:
- OpenAI will be able to work with other cloud companies.
- Microsoft will be able to work with other AI labs.
- OpenAI will pay 20% of revenues (up to a certain level) to Microsoft until 2030.
- Microsoft still stop paying revenues to OpenAI.
- Microsoft has a license to use OpenAI’s intellectual property until 2032.
Is that a bad deal for Microsoft? I’m not convinced it is.
It’s certainly good for OpenAI in terms of opening up a wider addressable market. But Microsoft stands to benefit from this.
In the short term, the firm gets 20% of revenues. And in the longer term, it’s the largest shareholder with around 20% of the business.
I’m not sure there’s much to dislike here from Microsoft’s perspective. And the stock is still on my buy list at the moment.
Wider implications
In my view, the real implications of Microsoft’s latest update go beyond the company. They affect the wider stock market.
An increase in spending – especially driven by high demand – is a very positive sign for semiconductor companies. I expect them to keep doing well.
Strong growth in the software division is also encouraging. Stocks in that industry have been hit hard recently, but maybe there’s room for optimism.
